The Bankers Investment Trust — Global ‘best ideas’ fund with distinguished record

Global equity markets have performed strongly over the past five years (Exhibit 2, left-hand chart), with the FTSE World index total return far outstripping that of the FTSE All-Share, in part owing to the weakness of sterling following the UK’s 2016 vote to leave the European Union. However, market volatility has picked up markedly in the past six months, as investors have begun to focus more on the negative factors that could threaten the longest equity bull market in history. These include the ever-present threat of a disorderly Brexit, slowing growth in China and trade tensions between the US and much of the rest of the world. However, a sharp recovery in markets in the early part of 2019 seems to suggest investors are willing to suspend disbelief for a while longer, and meanwhile the Q418 sell-off has seen average forward P/E valuations fall to much more reasonable levels. As shown in the right-hand chart, even the US (as measured by the Datastream US index) is now trading at a forward P/E multiple lower than its five-year average and c 12% below its peak. Only Asia ex-Japan currently trades at a forward P/E above its five-year average.

Given the threats to the macroeconomic outlook remain real, it would arguably be the wrong time for investors to embrace a passive global index approach, which would see them hugely exposed to the US equity market and the stocks that have run up hardest in the current bull phase. Instead, a more considered approach, with an eye on valuation and an appreciation of the importance of dividends to total investment returns, might be wise until the road ahead becomes clearer.

The Bankers Investment Trust (BNKR) was launched in 1888 and is one of the UK’s oldest closed-end funds. It has been managed by Alex Crooke, co-head of equities at Janus Henderson Investors (JHI), since 2003. The trust aims to achieve capital and income growth from a portfolio of global equities (it can invest up to 20% in fixed income securities, although in practice it does not tend to do so). Crooke works with the board to set the geographical allocation and the level of gearing (permitted up to 20% of net assets), and oversees a group of JHI’s regional specialist investment managers, who each run a dedicated portfolio (UK, Europe ex-UK, North America, Japan, Pacific ex-Japan including Hong Kong, China ‘A’ shares, and non-Asian emerging markets).

BNKR is a member of the Association of Investment Companies’ Global sector, and measures its performance against the FTSE World index, aiming for capital growth in excess of that of the benchmark over the longer term. It also aims to grow its annual dividend above the rate of UK RPI inflation, and has an unbroken 52-year record of year-on-year dividend increases.

Crooke comments that given the relatively lacklustre recent returns from most equity markets and uncertainty over the global outlook, it has been hard to get enough conviction on the macro side to be active with BNKR’s gearing, which has remained in low single digits over the past 12 months. Instead, he says, FY18 was a year of taking profits on a stock-by-stock basis and looking to reinvest as opportunities arose.

The manager’s central scenario for the macro outlook is for a continuation of the current protracted market cycle, albeit with only modest returns expected. Following the market volatility seen in 2018, global equities now look much better value, and earnings forecasts – while less optimistic than in recent years – remain positive. However, the picture is uncertain, with the majority of risks being to the downside. Crooke’s three more negative scenarios include:

The manager expects greater clarity on the outlook to emerge in the second half of 2019. However, he does see reasons to retain a mildly optimistic stance, with some of the negative influences receding. In addition to the Fed’s more accommodative stance, Italy has agreed its budget with the EU and the need to begin preparing for his 2020 re-election campaign could lead Donald Trump to seek a positive solution to the trade tensions between the US and China. While the outcome of Brexit negotiations is still far from decided, the removal of uncertainty should be a positive factor for UK equities, which have been shunned by overseas investors in recent years. Factors that remain a worry include slowing growth in China, and whether the rest of the global economy can catch up with the US, which remains vulnerable to a slowdown as the positive effects of one-off tax cuts recede.

Crooke has expressed these ideas in the BNKR portfolio by reducing Asian exposure throughout FY18, partly because of trade headwinds but also in light of China’s uncertain growth outlook. ‘In the medium term I am confident that China and Asia will deliver growth, and intra-Asian regional trade will pick up, but there are a few headwinds, so we have reduced Asia, but expect to increase it over time,’ he says. Exposure to technology stocks continues to reduce, as the manager sees the sector as ‘getting a bit late-cycle’ and exhibiting increasing volatility. He adds that until there is more clarity on Brexit, it would be wrong to increase the UK weighting. ‘There is still room for a good Brexit, although it is hard to have confidence that that will happen,’ Crooke concludes.

As lead manager of BNKR, Crooke sets the geographical allocation of the portfolio, with the regional sub-portfolios all managed by specialists at Janus Henderson Investors. Crooke’s ambition is for each of the major regional portfolios to have approximately 25–30 stocks. Overall, the investment style of the trust is founded on bottom-up stockpicking with a tilt towards value and income, although individual managers’ styles may vary somewhat. Cash-generative companies with growing dividends are a natural fit for the trust, given its own 52-year record of annual dividend growth. Portfolio turnover is relatively low, at 26.4% in FY18 and 25.3% in FY17, implying an average holding period of around four years.

Below we give key details for each sub-portfolio at end-FY18 (31 October), with performance relative to local indices shown in Exhibit 3.

At 28 February 2019, there were 193 stocks in the BNKR portfolio, a slight decrease from 197 a year earlier. The top 10 holdings made up 16.0% of the total, a marginal increase in concentration from 14.0% at 28 February 2018.

In geographical terms (Exhibit 4), North America is the largest weighting (albeit still far below the benchmark weight), followed by the UK. Although both have increased as a percentage of the whole over the past 12 months, the direction of travel for UK equities has been generally downwards for more than three years, while US exposure has gently risen. The largest fall in exposure over the past year was in Pacific ex-Japan (which includes Hong Kong). While the UK weighting is several times that of the FTSE World index, the picture is quite different when considered by sources of revenue rather than country of listing. In terms of revenues, the portfolio is split broadly one-third each between North America, emerging markets and rest of the world (UK, Europe, Japan and developed Asia), with the UK accounting for just 10.9% of portfolio company revenues (as at end-FY18). Crooke says that while this is still well above the UK’s 5.9% weighting in the benchmark, and there is scope for it to fall further, the UK exposure is less domestically focused than it was a few years ago, with largest UK holding Diageo deriving c 95% of its revenues from overseas.

In sector terms (Exhibit 5), the biggest bets are a large (c 10pp) overweight in consumer goods and a c 5pp underweight in technology. The technology underweight has increased over the past 12 months and Crooke says the regional managers are concentrating their tech exposure in innovative names that can deliver on expectations. There is a cyclical tilt to the overall portfolio, with biases to consumption in Asia and European industrials. While the pro-cyclical exposure was a headwind for BNKR’s performance as markets sold off in the second half of 2018, Crooke says he believes the market is overly worried about the possibility of a global recession. This is giving rise to very attractively valued opportunities in unloved consumer-facing stocks that are well placed to benefit from higher spending as a result of wage growth, which is running at c 3–3.5% in the US and UK, both of which have historically high levels of employment. The largest sector weighting is in financials, where the portfolio is overweight financial services and European banks, and underweight real estate and insurance.

Currently all of the top 10 holdings (see Exhibit 1) are US-listed companies. While the more growth-orientated US portfolio has a lower dividend yield than BNKR as a whole, Crooke says dividend growth is strong, with many companies delivering double-digit percentage increases year-on-year.

BNKR has bounced back somewhat from the recent global stock market sell-off, posting positive NAV total returns over one, three and 12 months, albeit somewhat negative over six months (Exhibit 6). Its NAV and share price total returns have also outperformed the benchmark (FTSE All-Share index until 31 October 2017 and FTSE World index thereafter) over one, three and six months, and three, five and 10 years.

In FY18 (see Exhibit 3) BNKR’s regional portfolios outperformed local benchmarks in North America, Europe ex-UK, Pacific ex-Japan and emerging markets. The UK, Japanese and China ‘A’ share portfolios all underperformed. Crooke notes that it was a difficult year for value and quality-biased investors, as once again momentum drove markets, and there was no observable ‘flight to quality’ during the late 2018 sell-off. North America was the only region, in terms of both BNKR and the local benchmarks, to post positive absolute performance in sterling terms (the Japanese index was essentially flat), with Ian Warmerdam’s US stock picks returning 15.7% versus 10.8% for the local FTSE index. However, BNKR remains significantly underweight the US versus global indices (it makes up c 57% of the FTSE World index), so in asset allocation terms, the US detracted. Japan had contributed positively until the market sold off late in the financial year, while a small underperformance of the China ‘A’ share index was relatively insignificant when viewed against the magnitude of outperformance in previous years (+40.2pp in FY17).

Stock selection contributed positively in North America, Europe ex-UK and Pacific ex-Japan. Crooke reports that in the UK, some mid-cap holdings such as Ted Baker, Pets at Home and Connect Group performed poorly in FY18, and tobacco stocks also detracted. In sector terms, the overweight position in financials and the underweight in oil & gas made a positive contribution, while the overweight position in consumer goods and the underweight position in technology detracted. The top five positive stock contributors relative to the FTSE World index were all US stocks (Apple, Microsoft, Amazon, Union Pacific and Mastercard), while the biggest relative detractors were a mixture of UK (British American Tobacco, Connect Group), Pacific ex-Japan (Netease, sold during the period), Europe ex-UK (Deutsche Post) and Japan (Fujitsu, also sold during the period).

As shown in Exhibit 7, notwithstanding underperformance of both indices over one year to 28 February 2019, BNKR has broadly outperformed the FTSE World index over the short to medium term, and the FTSE All-Share index in the medium to long term, in both share price and NAV total return terms. Relative to the blended benchmark (Exhibit 8), NAV total return performance has ticked up since the start of the year, after a negative second half of 2018.

At 21 March 2019, BNKR’s shares traded at a 0.9% discount to cum-income NAV. This is narrower than the 1.8% average discount over the past 12 months and significantly narrower than the averages over three, five and 10 years, which range from 3.2% to 6.0%. However, it does represent a widening from the small premium at which the shares traded in the early part of 2018. Discount volatility has been low over the past 18 months (in spite of stock market volatility having been higher), with the shares trading in a narrow range between a c 1.5% premium and a c 4.0% discount to NAV. While BNKR does have the ability to buy back or issue shares in order to manage a discount or premium, this has not been necessary in recent times as the shares have tended to trade close to NAV.

BNKR is a conventional investment trust with one class of share, although its shares are listed in both London and New Zealand. At 21 March 2019, there were 122.6m shares in issue. While the board has authority to buy back or issue shares to manage a discount or a premium, there have been no changes to the number of shares in issue since 2016, when BNKR was one of two rollover vehicles for Henderson Global Trust (HGL).

The trust is structurally geared via £50m of 20-year loan notes, issued in 2015 with a coupon of 3.68%, and a £15m debenture with an interest rate of 8%, maturing in 2023. This gross gearing of c 5.9% (based on 21 March 2019 net assets) is partly offset by cash and net gearing stood at 3.0% at 28 February. During FY18, BNKR arranged a new £20m bank loan (increasing the available gearing to c 8%), although this facility has not yet been drawn. Net gearing has remained in a narrow range of 2.0–4.0% over the last 12 months.

Janus Henderson Investors is paid an annual management fee of 0.45% of the first £750m of net assets and 0.40% above £750m, calculated quarterly. There is no performance fee. Ongoing charges for FY18 were 0.50%. This was a slight increase on 0.44% in FY17; however, the prior year reflected a period when management fees were capped following the HGL rollover. Transaction costs and other expenses were lower in FY18 than in FY17.

Along with its stablemate, City of London Investment Trust, and Alliance Trust, BNKR has the joint-longest record of unbroken annual dividend increases for an investment trust, at 52 years. BNKR pays dividends quarterly, in May, August, November and February. Total dividends of 19.72p were paid for FY18 (two dividends of 4.86p and two of 5.0p), an increase of 6.0% on the 18.6p paid in respect of FY17. The dividend was fully covered by earnings per share (EPS) of 20.78p, and BNKR has revenue reserves of c 24.5p per share (based on the reserve at 31 October 2018 after deducting the third and fourth dividends), which is 1.24x the latest annual dividend per share. Crooke notes that portfolio companies paid fewer special dividends in FY18 compared with FY17 – a trend he expects to continue in FY19 – although FY18 EPS was still higher than the prior year, suggesting a healthy level of underlying dividend growth.

One of BNKR’s objectives is to grow its dividend in excess of RPI inflation, and with compound annual dividend growth of 6.9% over the past five financial years versus 2.4% for RPI, it has comfortably achieved this objective. The board has forecast dividend growth of c 6.0% for FY19, which would suggest total dividends of at least 20.9p for the current financial year. So far, one interim dividend of 5.1p has been declared. Based on the current share price and the last four dividends, BNKR has a yield of 2.3%.

BNKR is a member of the Association of Investment Companies’ Global sector, which contains many of the largest and longest-established investment trusts. Below in Exhibit 10 we show the 11 largest funds, with market capitalisations above £500m, as well as the averages for the 21-strong sector as a whole. BNKR is the median fund by size in the subset shown. Its NAV total return performance has been slightly above the subset average over one year, marginally below average over three and five years, and somewhat further below average over 10 years, although in absolute terms it has produced annualised NAV total returns of more than 10% over all but the one-year period. The average performance for the whole sector is slightly higher than for the subset of large funds over one and five years, and slightly lower over three and 10 years. BNKR’s ongoing charges are below average and there is no performance fee. Its discount to NAV and gearing are both below the averages for the large funds, and its dividend yield is above the average for both this group and the sector as a whole. It is worth noting that the averages are somewhat skewed by the very strong performance of two Baillie Gifford-managed funds, Edinburgh Worldwide and Scottish Mortgage, which both have more than half their assets invested in the US and a focus on technology stocks – two areas that have contributed prominently to global stock market performance in recent years. Excluding these two, BNKR has outperformed the average of the large funds over one, three, five and 10 years.

There are currently four directors on BNKR’s board, all non-executive and independent of the manager. Sue Inglis joined the board in 2012, became senior independent director in 2015, and has served as chairman since January 2019, following the retirement of Richard Killingbeck. Julian Chillingworth, appointed in 2015, is now the senior independent director. Isobel Sharp became a director in 2017 and is chairman of the audit committee. The newest director, Richard Huntingford, was appointed in September 2018. The directors have professional backgrounds in corporate finance, fund management, accountancy and media/marketing.

BNKR has a long-standing secondary listing on the New Zealand Stock Exchange and in Exhibits 11 and 12 we present the trust’s performance in New Zealand dollar terms. Over five years, sterling and NZ dollar investors have seen broadly the same returns of c 10% a year in both share price and NAV total return terms. Recent sterling strength has increased returns (or limited losses) for NZ dollar investors over one, three, six and 12 months, while over 10 years, a weaker pound has meant NZ investors have seen annualised total returns of 10.1% (share price) and 9.3% (NAV), compared with 14.3% and 13.7% respectively for sterling investors.